Warren Buffett has been teaching valuable lessons to investors for decades, from why you should stay the course when the markets get tough to how to find the best companies to invest in.
Although Buffett is no longer the CEO of Berkshire Hathaway, investors can still look to his shareholder letters for guidance on investing. In one of his last letters to shareholders published last year, Buffett warned of “financial folly.” Here’s what he had to say.
What is ‘financial stupidity’?
Buffett specifically warned against “financial folly,” which he said could destroy the value of paper money. Fiscal stupidity refers to government moves that weaken currencies.
“Paper money can see its value disappear if financial folly prevails,” Buffett wrote. “In other countries, this indifference has become the norm, and, in the short history of our country, the US has come close to the edge.”
He also said that fixed-coupon bonds do not protect investors from the problems of capital flight. Buffett was explaining why, despite having a large cash position, Berkshire Hathaway investors still have most of their money invested in stocks.
“Berkshire shareholders can be confident that we will invest a large portion of their money in equities – primarily US stocks although many of them will have significant international operations,” he wrote. “Berkshire will do it never they prefer ownership of cash assets to ownership of good businesses, whether controlled or partially owned.”
Why Buffett’s warning is important to everyday investors
Buffett’s warning isn’t just for Berkshire Hathaway investors. It may also suit everyday investors who set aside money in savings accounts and other cash-like alternatives, such as certificates of deposit (CDs). While it’s important to have some cash — at least enough to cover three to six months of emergency expenses, according to many financial advisors — it’s important not to keep too much cash on the side. This is because the value of money can be eaten away over time, especially by inflation.
Berkshire Hathaway has a large cash position for short-term needs, but Buffett said the priority is to have strong businesses. Investors can use this concept by making sure they have enough money for short-term expenses and investing in promising businesses using the stock market. That way, your money can grow more than inflation over time.
Solid businesses tend to hold up better than cash because when costs rise, companies can raise prices while maintaining demand. Although cash is guaranteed to lose purchasing power over time, businesses can gain market share and generate shareholder returns that cause their stock prices to rise.
While Buffett voiced a valid warning, it wasn’t a sign to put all your money into stocks. Investors should determine their allocation to cash, stocks, bonds and other assets such as real estate based on their risk tolerance, goals and timing, including how long they have until they plan to retire.
